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Master and the market

It is said that the stock market never lies. And as American voters gear up to pick their congressmen and state governors next week, Donald Trump has pointed to it again in a bid to earn credit for his presidency.

“The Stock Market is up massively since the Election, but is now taking a little pause – people want to see what happens with the Midterms,” the American leader wrote on Twitter on Tuesday in a curiously capitalised message that sought to highlight the almost-40% Wall Street rally since November 2016. “If you want your Stocks to go down, I strongly suggest voting Democrat,” he added.

Trump has also turned to the relative strength of the US stock market as proof that the tariffs on Chinese goods have been “working big time”, proclaiming in August that the slump in Chinese A-shares is weakening Beijing’s appetite to see out the escalating trade war.

Chinese leaders may actually agree with him – or at least that the optics of their slumping stock markets sends unwelcome signals overseas. As such they seem to be trying to engineer a rally, countering Trump’s rhetoric and portraying their stock market as resilient even in the face of American tariffs.

How have Chinese stocks performed since the trade war began?

The first shots in the trade row were fired on March 15 when Trump signed an executive order putting a 25% tariff on steel and a 10% tariff on aluminium imports from China and several other countries.

Between mid-March and Wednesday of this week the Dow Jones Industrial Average pretty much stood its ground and shrugged off tariff increases (although the 30-member index did suffer a 7% correction in recent weeks after closing at an all-time high of 26,773 in early October).

In comparison Chinese stocks have been on a dismal losing streak. The Shanghai Composite Index closed at 3,287 on March 14 when hostilities started. On Wednesday the benchmark hovered at the 2,600-level, implying a 20% decline since the trade war began.

The fallout has seen China feature as one of the worst performing equity markets, ranking in the same league as Turkey, Argentina and Venezuela (all of which have been hit with local crises).

This awkward fact has allowed Trump to proclaim early success in his trade war tactics. Indeed, in early August China’s A-share market lost its place as the world’s second largest by capitalisation, when its bourses in Shanghai and Shenzhen were overtaken by Japan for the first time since late 2014.

A year later – in June 2015 – the total value of A-shares peaked at more than $10 trillion. Currently they are worth about $6 trillion, while the market capitalisation of American stocks exceeds $30 trillion.

Separately, Hong Kong’s Hang Seng Index – which carries a heavy weighting of Chinese firms such as internet giant Tencent – had climbed to a record high of 33,154 in late January. But as sentiment soured because of Sino-US trade and tech rows, that index has also retreated more than 20%.

Blame the trade war for the bearish mood?

The trade tensions between Beijing and Washington have taken their toll on market sentiment, with investors sensing that the Chinese economy is starting to feel the strain. A number of Chinese firms that export to the US have already gone under (see WiC423). This has added to the jitters that China’s economy is growing at a much slower clip at a time when the American economy is expanding at its quickest pace since 2014.

In another clear sign that the trade war is starting to bite, China’s official manufacturing purchasing managing index (PMI) dropped to 50.2 in October, the weakest manufacturing growth in more than two years.

At a meeting of the Politburo in late July, China’s 25 most senior leaders concluded that the government needs to support growth owing to a “clear change” in the external environment. When that group met again on Wednesday there was a far greater sense of urgency, with a post-meeting statement admitting that the economy has seen “increased downward pressure”.

Given the imbalance in the China-US trading relationship, America also has more scope to impose further tariffs. Trump knows this and is playing on concerns that Beijing will run out of ammunition to take retaliatory action.

Yet the Chinese government might also look closer to home for the reasons for its stock market woes. Since the extreme volatility in the summer of 2015 – when a 40% fall over a three-month meltdown was dubbed “the Great Fall of China” (see WiC293) – regulators have got a lot more cautious about managing emerging risks in the country’s financial system.

A deleveraging campaign designed to pare back debt has sucked liquidity out of the local markets. And a crackdown on acquisitive firms such as Anbang Group has eliminated some of the more active traders and financiers, hampering some of the confidence of private sector investors in general and taking a toll on stock buying.

Is money starting to flow back to the US?

Bloomberg reported this week that global investors are exiting Chinese stocks at the fastest pace on record -– offloading an average of Rmb1.1 billion ($158 million) of A-shares a day via the Shanghai and Shenzhen share trading schemes with Hong Kong (known as the Connect).

Hong Kong Economic Times also reckons the contrasting performance in Chinese and American stocks illustrates that some of Trump’s policies might be working. One of these is his tax cuts, which hoped to encourage American firms to repatriate their foreign earnings and cash parked offshore.

The Bureau of Economic Analysis said in June that some $300 billion had returned from overseas bank accounts in that quarter. That would annnualise into $1.2 trillion of returning cash for the full year as compared with $35 billion in 2017.

Apple, one of the American firms to profit most from China in recent years, has signalled that it has plans to repatriate $285 billion in cash, for instance. Part of the cash pile will be used to repurchase its own shares.

Apple, of course, has also been caught up in the Trump rhetoric, with calls that it ‘reshore’ more of its manufacturing. Hence even as Apple’s share has soared to historic highs – making it the first ever $1 trillion firm in August – the stock prices of some of its key Chinese suppliers have plummeted.

AAC Technologies and Sunny Optical, two parts suppliers to Apple and previously star performers on the Hong Kong bourse, have both plunged nearly 60% since mid-March. The freefall has wiped out more than HK$200 billion ($25 billion) in the duo’s market value. Lens Technology, a Shenzhen-listed supplier of smartphone screens to Apple, has also seen its market cap fall close to 60% to Rmb31 billion ($4.5 billion) over the same period.

Other A-share firms generally favoured by foreign fund managers have also suffered. Take Kweichow Moutai. The maker of China’s most famous liquor has little exposure to the American market so it shouldn’t be a direct victim of the tariff row. Indeed, its share price had climbed to an historical high in January, making it the first Rmb1 trillion Chinese consumer brand. However, it has been caught up in the crossfire of the past few months, seeing its shares stumble nearly 30%, wounded by the broader sentiment relating to the trade war.

How about the foreign exchange market?

The value of all asset classes is ultimately tied to the currency that they are denominated in.

Here again, the relative performance of the renminbi and the greenback seems to point to global fund flows out of China and back towards the US. While the US dollar index, a gauge of the currency’s value versus its peers, is hovering just below its all-time high, its Chinese counterpart has dropped to its lowest point in nearly a decade.

The yuan’s onshore rate sank past 6.97 this week to the dollar, its weakest level since the 2008 global financial crisis.

Analysts are now watching whether the Chinese government will intervene more directly to stop the currency breaching the 7 yuan to the dollar psychological barrier (it has slid 9% since the beginning of the year).

There is monetary logic to some of the currency’s decline. While the Federal Reserve has raised interest rates three times so far this year, the People’s Bank of China has pushed for looser conditions, cutting lenders reserve requirement ratios three times. The latest easing by the central bank came in mid-October and helped to release more than Rmb1.2 trillion of liquidity into the banking system. While the PBoC insisted that the move did not represent a change to its “prudent” monetary policy, market watchers have come to conclude that more easing could follow as Beijing frets further about the trade war’s impact on domestic growth.

What next?

China’s leaders seem to be viewing their stockmarkets as a proxy for countering the claims that Trump is winning the early battles in the trade row. That’s why financial regulators have been falling over themselves to talk up the prospects for the Chinese bourses in recent weeks. The chairman of the China Securities Regulatory Commission (CSRC) Liu Shiyu, for one, made a “surprise inspection” tour of a trading floor at a domestic brokerage last month. According to state media outlets, Liu also tried to gee up retail investors by proclaiming that “springtime was not far off” (a Game of Thrones-like remark, hinting that a major campaign of coordinated buying could be on its way.)

The CSRC also published a statement during trading hours on Tuesday that it would take action that encourages “value investing”.

China’s financial regulators usually save their policy announcements till after the market closes or make them during public holidays to reduce volatility. The CSRC also tends to reprimand listed firms if they issue market-sensitive news during trading hours. So the watchdog’s latest intervention seemed deliberately timed for maximum effect, given the bullish statement was released during market hours.

Nor is the CSRC alone in its endeavours. The China Banking and Insurance Regulatory Commission (CBIRC) issued a directive last week urging lenders to avoid forced liquidation of pledged shares – a phenomenon which has been driving down the market – and encouraged likewise insurance firms to set up investment schemes to meet the funding needs of private sector firms. The PBoC also recently pledged more funding support for companies stricken by the liquidity crunch.

Previously rumours have circulated of rifts in the leadership over how to deal with Trump and the trade war (see WiC420). But it seems that regulators are forging a united front on ‘talking up’ the stock market. This has been happening since ed vice premier and economic tsar Liu He told three of the leading Party-run media outlets that regulators would be ‘held responsible’ for ensuring stability in the financial markets, the Hong Kong Economic Times reports.

So is the A-share market bottoming out?

Beijing News says that more than a dozen directives have been dished out over the past two weeks in a bid to calm markets. Some of the main initiatives are aimed at defusing one of the most dangerous time bombs for investors. According to China Business News, more than 25% of China’s listed firms now have more than 30% of their shares pledged against loans. The value of this collateral has been collapsing as the market tumbles. As a result, up to 160 A-share firms have seen changes in ownership so far this year and at least 22 of them have been taken over by state enterprises, who generally have easier access to bank financing. So news that listed companies will get more of a chance to source new loans themselves has sent out a message that the pledged stock issue is being addressed.

The CSRC has also been taking a more active role to encourage companies to buy back their shares. More than 40 A-share firms have recently announced stock repurchase plans totalling Rmb16.7 billion. Among them Ping An Insurance has pledged to buy back up to a tenth of its issued capital and the CBIRC is coming up with plans to allow more insurers to put more of their funds into the stock market in general.

The Ministry of Finance has made encouraging noises too: it published a consultation paper on Thursday on whether to lower stamp duties on stock trading.

The strongest message, however, might have been just delivered by the Politburo this week. According to Xinhua, China’s highest decision making body has promised to line up more stimulus measures to help the economy regain momentum.

“The leadership is paying great attention to the problems, and will be more preemptive and take action in a timely manner,” read the Politburo’s post-meeting statement.

There was debate about whether this was another strong signal from the central authorities that they would support Chinese stocks. In a context in which government intervention from Beijing often drives stock prices more than their underlying value, messages like these are seized upon eagerly by market watchers. As The Economist magazine put it: China’s stock market is unique thanks to the role played by the state – “it is easy to forecast the weather when you also make it”.

Indeed the A-share market has rebounded about 4% this week. Officialdom wants you to believe that the market has bottomed.

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